Sei sulla pagina 1di 16

Chapter 5

Financial Markets and


Institutions

The Capital Allocation Process


Financial Markets
Financial Institutions
Stock Markets and Returns
Stock Market Efficiency
5-1
The Capital Allocation Process

In a well-functioning economy, capital flows


efficiently from those who supply capital to
those who demand it.
Suppliers of capital individuals and
institutions with excess funds. These
groups are saving money and looking for a
rate of return on their investment.
Demanders or users of capital individuals
and institutions who need to raise funds to
finance their investment opportunities. These
groups are willing to pay a rate of return on
the capital they borrow. 5-2
How is capital transferred between
savers and borrowers?

Direct transfers
Investment
banking house
Financial
intermediaries

5-3
What is a market?

A market is a venue where goods and


services are exchanged.
A financial market is a place where individuals
and organizations wanting to borrow funds
are brought together with those having a
surplus of funds.

5-4
Types of Financial Markets

Physical assets vs. Financial assets


Spot vs. Futures
Money vs. Capital
Primary vs. Secondary
Public vs. Private

5-5
The Importance of Financial
Markets
Well-functioning financial markets facilitate the
flow of capital from investors to the users of
capital.
Markets provide savers with returns on their money
saved/invested, which provides them money in the
future.
Markets provide users of capital with the necessary
funds to finance their investment projects.
Well-functioning markets promote economic
growth.
Economies with well-developed markets
perform better than economies with poorly-
functioning markets.
5-6
What are derivatives? How can they be
used to reduce or increase risk?

A derivative securitys value is derived from


the price of another security (e.g., options and
futures).
Can be used to hedge or reduce risk. For
example, an importer, whose profit falls when
the dollar loses value, could purchase currency
futures that do well when the dollar weakens.
Also, speculators can use derivatives to bet on
the direction of future stock prices, interest
rates, exchange rates, and commodity prices.
In many cases, these transactions produce high
returns if you guess right, but large losses if
you guess wrong. Here, derivatives can
increase risk. 5-7
Types of Financial Institutions

Commercial banks
Investment banks
Financial services corporations
Credit unions
Pension funds
Life insurance companies
Mutual funds
Hedge funds
Exchange traded funds
Private equity companies 5-8
Physical Location Stock Exchanges vs.
Electronic Dealer-Based Markets

Auction market vs.


Dealer market
(Exchanges vs.
OTC)
NYSE vs. Nasdaq
Differences are
narrowing

5-9
Stock Market Transactions

Apple Computer decides to issue additional stock


with the assistance of its investment banker. An
investor purchases some of the newly issued
shares. Is this a primary market transaction or a
secondary market transaction?
Since new shares of stock are being issued, this is
a primary market transaction.
What if instead an investor buys existing shares
of Apple stock in the open market is this a
primary or secondary market transaction?
Since no new shares are created, this is a
secondary market transaction.
5-10
What is an IPO?

An initial public offering (IPO) is where a


company issues stock in the public market for
the first time.
Going public enables a companys owners to
raise capital from a wide variety of outside
investors. Once issued, the stock trades in
the secondary market.
Public companies are subject to additional
regulations and reporting requirements.

5-11
S&P 500 Index, Total Returns: Dividend
Yield + Capital Gain or Loss, 1968-2007

5-12
Where can you find a stock quote, and
what does one look like?

Stock quotes can be found in a variety of print


sources (Wall Street Journal or the local
newspaper) and online sources
(Yahoo!Finance, CNNMoney, or MSN
MoneyCentral).

5-13
What is the Efficient Market Hypothesis
(EMH)?

Securities are normally in equilibrium and are


fairly priced.
Investors cannot beat the market except
through good luck or better information.
Efficiency continuum
Highly Highly
Inefficient Efficient

Small companies not followed Large companies followed by


by many analysts. Not much many analysts. Good
contact with investors. communications with investors.
5-14
Implications of Market Efficiency

You hear in the news that a medical research


company received FDA approval for one of its
products. If the market is semi-strong
efficient, can you expect to take advantage of
this information by purchasing the stock?
No if the market is semi-strong efficient, this
information will already have been incorporated
into the companys stock price. So, its probably
too late.

5-15
Implications of Market Efficiency

A small investor has been reading about a hot


IPO that is scheduled to go public later this
week. She wants to buy as many shares as she
can get her hands on, and is planning on buying
a lot of shares the first day once the stock
begins trading. Would you advise her to do this?
Probably not. The long-run track record of hot IPOs
is not that great, unless you are able to get in on
the ground floor and receive an allocation of shares
before the stock begins trading. It is usually hard
for small investors to receive shares of hot IPOs
before the stock begins trading.
5-16

Potrebbero piacerti anche